An essential feature for urban/paranormal genres is that the story has to involve real-life characters and settings, something that could happen to any of us if we were placed in the right situation. Both genres involve supernatural elements — magic and/or magical creatures.
While it is more or less clear to everyone what these genres have in common, there is a range of opinions about the differences between them. One of the definitions I heard is that urban fantasy is rooted in fantasy and paranormal fiction is rooted in horror. Hence, urban fantasy involves fairies, wizards, ogres, and elves, while paranormal fiction is about ghosts, demons, and vampires. However, some stories involve both, so the two genres often intertwine.
Probably the most typical examples or urban and paranormal are Harry Potter (urban) and Twilight (paranormal). I believe these two books are also in a big part responsible for the recent uprise of these genres, but there are other reasons why these genres are timeless and carry a universal attraction.
It is easy for readers to identify themselves with realistic characters in realistic settings. Many people need some anchor in reality to get drawn into the story. These people often read other genres and are not fantasy fans, but the tools of urban fantasy and paranormal fiction allow them to ‘cross over’. Thus, urban and paranormal genres expand the fantasy fan base and tend to draw readers who don’t normally read more traditional fantasy.
I write fantasy because I feel that involving magic, expanding the human abilities to super-human, allows the author (and the reader) to explore the depths of the human soul far beyond what is possible within the real-life limitations. This can stand out even more if the main character is a realistic person from our everyday world.
The oldest bona fide urban fantasy I could think of is The Chronicles of Narnia, however I feel this genre goes back deeper — maybe all the way to the Old China’s epic, Journey to the West?
And of course, urban fantasy is a top selling genre today, one that sees the most submissions, publications, and sales in the fantasy genre.